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Tuesday, March 8, 2011

Cheniere Energy Rocked By 35.8% - Market Overreaction?

Update (Mar 9, 2011): I was informed by a colleague this morning that Dennis Gartman mentioned LNG in his Gartman Letter this morning (although not specifically by name). Gartman states that his source at the company is unequivocal that the claim against the company is baseless. Gartman goes on to say that he believes his source and that he is of the view that this is an "old-fashioned greenmail attempt". I respect Mr. Gartman's opinion and he is not one to make such statements lightly. I believe he is likely correct in his assessment.
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Cheniere Energy (LNG) got absolutely rocked today, losing 35.8% of its market cap by the time the closing bell mercifully rang at 4pm.

Clearly LNG is not immune to volatility. It broke out to the upside in October last year as it broke above the 3 dollar mark. Since that date there have been numerous high-volatile trading days.

Since October there have been 25 days where the daily range has exceeded 10% , 5 days where it exceeded 20% and 3 days where its exceeded 30%. For example, November 19 saw a 36.1% trading range as LNG broke above 5.40 to close at 6.16. Coincidentally 6.16 is within a few cents of today's 6.25 close.

So what caused today's sell-off?

Before the open Cheniere announced that they filed a lawsuit against Centerbridge PartnersLP, saying the distressed investment-focused hedge fund disrupted Cheniere’s business with a letter alleging it had defaulted on debt.

Cheniere carries a significant level of debt, and if the allegations are true it would not bode well for the company. But at this stage all we have are unfounded allegations by one hedge fund. And Cheniere responded to the allegations by suing Centerbridge for "defamation, business disparagement and tortuous interference with business relationships against it and its Sabine Pass unit".

I realize that in this market the natural reaction is to shoot first and ask questions later, but did today's news really merit a 35.8% loss of market cap? Only time will tell, but at this stage I have to wonder if the market is overreacting.

The fact still remains that North America is flush with natural gas. Even a brutally cold winter did little to cut into natural gas supplies. Yet natural gas prices around the world are significantly higher than they are in the US. The problem is that the US has virtually no capability to export natural gas currently. This is where Cheniere comes in.

Cheniere owns 91% of Sabine Pass, which operates a LNG import terminal on the border of Texas and Louisiana. Cheniere is in the process of building an export terminal along side its existing import terminal. The ability to export natural gas provides a huge opportunity for Cheniere - and it is this opportunity that has propelled Cheniere's stock price higher over the past 6 months.

The other thing to consider is that news of the lawsuit came out long before the market opened this morning. Yet there was little pre-market activity and after 2 hours of trading the stock was only down around 20 cents. Then shortly after noon the price fell below 9 dollars and just accelerated to the downside. This suggests to me that today's move was exaggerated as stops were triggered and as short sellers joined the party.

I was long this stock back in October at 2.70, bought and sold it a few times, and then took profit at 6.40 in February of this year. I then proceeded to miss an incredible 64% run over the following month as prices soared to a high of 10.53.

I see this as an opportunity to get back into a company with a great story and a great opportunity. Admittedly it's a high risk play, and I wouldn't recommend that anyone try to catch a falling knife in any stock unless they can handle the volatility. But I think the move is overdone, and was clearly accelerated by stops and short sellers.

I bought a few shares today at an average price of 7.43. I'm already down 15%, and there's a good chance the initial move tomorrow morning could be to try to push the stock lower again, but I think that the price could snap back very quickly once the selling calms down.

Also of note is that there was huge activity in the April 10 dollar calls today. 11.5k contracts were purchased, which is equal to about 15x the open interest. Somebody obviously thinks there's a chance this stock snaps back violently over the next month.